3.05.2009

Q: What happens if we all spend years assuming that nothing can ever go wrong with our investments and budget decisions?

A: Our current economic situation.

What I am slowly beginning to realize is that everyone -- you, me, everyone -- based their budget decisions around the idea that what is happening today can only get better, not worse.

If your house will only become more valuable, why not take out a second mortgage? If your job situation can only get better, why worry about your credit card debt? If your bachelor's degree will get you such a great job, why worry about your student loans? Right? Why save money -- boring old cash -- when the things you can purchase today will act as assets from which to draw more wealth down the line?

And so we didn't save money; we spent money. We took out even more loans to spend more money more quickly, assured that we would be so affluent soon that the debt we incurred wouldn't matter anyway...

And when we all reached that limit, where we had spent more than we could pay back, the economy died. None of us could pay back our debts, mortgages, and credit cards. This only exacerbated the situation and made us even less likely to pay the money we owed.

The graph above is the savings rate. It asks us, "for every dollar you made as income, how much money did you put into the bank at the end of the day?"

You'll notice that on a few occasions the resounding answer from the average American was: nothing! Nothing at all! We spent every cent we earned.

The economy won't be fixed until we manage to payback some of what we already owe, and that will be a slow process. Last time this happened (the great depression) we were rescued by WWII: it gave us all jobs, and demanded that we save money since there were no cars or expensive items to be purchased. What will save us this time?

If you want to feel depressed about how stupid we are, I invite you to read some articles from 2005 about how we then had a 0% savings rate:

"With employment growth strong now, analysts said that different factors are at play. Americans feel they can spend more, given that the value of their homes, the biggest asset for most families, has been rising sharply in recent years.

But analysts cautioned that this behavior was risky at a time when 78 million Americans are on the verge of retirement."

The zero-savings problemSome savings measures show households are flush, but consumers are spending every dime they make

"The low savings rate has kept consumers spending, which in turn has kept the economy growing.

'We've backed ourselves into a very dangerous situation,' said Dean Baker, co-director of the Center for Economic and Policy Research. 'The economy is dependent on everyone consuming like crazy...' "